Crypto and FOREX
CERTIFIED FINANCIAL PLANNERS™ and financial coaches are probed day-in and day-out by friends, family, and clients alike for investing advice. Of course, people always want to know "the secret" or "what they need to do" to win big with investing. But, unfortunately, this hit-it-big and win the lottery approach to investing isn't what financial professionals genuinely do (or at least not good ones).
More often, we focus on investment strategies that utilize various forms of investments to allow for a more predictable increase in return and risk. Unfortunately, the "one and done" and "all in" approaches to investing are the quickest ways to flush money down the drain. This has been proven repeatedly through the years - miracle companies, multi-level marketing, scams, and other get-rich-quick schemes are prime examples of how not to invest.
Could the latest of these get-rich-quick schemes be cryptocurrency? What about Currency Trading in general?
In an article by the Wall Street Journal that I was recently interviewed for, it was found that of 600 financial advisors, only fifteen percent were allocating part of their client's portfolios to cryptocurrencies. Furthermore, those who invest in cryptocurrencies have less than 5% of their dollars in crypto. So that means eighty-five percent of financial planners do not invest in crypto for clients. There's likely a reason for that.
Crypto Vs. FOREX
This week's article will tie in with another recently written piece, Investing In Currencies, about trading currency and foreign currency exchanges, otherwise known as forex. At first glance, cryptocurrency and forex investing seem incredibly similar. In fact, they are in many ways.
Like trading currency, when you buy Bitcoin or any other cryptocurrency, you're switching out one form of money for another form of currency as a pairing, just as you do with traditional forex transactions. Also, similarly to forex trading, the cryptocurrency market is never closed - you can make a trade at any time.
However, even at the surface level, it's apparent that the two aren't twins - they have many differences.
A Fundamental Difference in Crypto and Forex
There are several key differences between cryptocurrency and foreign currency exchange trades. However, none are quite as striking as this one key and fundamental difference they have.
Cryptocurrency is decentralized, and almost all forms of it are detached from governing bodies. While governments in recent years have been attempting to put a harness on the new form of currency, they haven't been entirely successful, and there's still quite a bit to rein in. Currency trading relies on traditional currency. Naturally, traditional currency is tied to a government of one kind or another who have a handle and influence on that currency.
As you'll see later in this article, this one fundamental difference leads to quite a few implications for both crypto and the way it's handled, traded, organized, and regulated.
Key Differences in Crypto and Forex
While the lack of centralization is undoubtedly a critical difference between trading crypto and trading traditional currencies, it certainly isn't the only difference. Cryptocurrency also lacks any physical properties. While most currencies have a value that's demonstrated with a physical item, like a dollar or coin, cryptocurrency, in large part, is only valuable because of a mutually agreed upon worth. In addition, traditional currency is held relatively steady through treasuries and centralized banking systems compared to cryptocurrency, which is much more volatile. Finally, you can spend your traditional currency almost anywhere. It is liquid. In contrast, you'll have to trade bitcoin and other more obscure cryptocurrencies for conventional currency before spending it (most of the time).
Traded Like Traditional Currency (But Higher Risk)
How traditional and cryptocurrencies are traded is remarkably similar. Both operate as a sort of exchange and are traded in pairs (ex: USD/Bitcoin or USD/GBP). However, it's worth noting that while they seem similar based on how they're traded, their markets couldn't be more different.
Forex and traditional currency trading is something that's already highly volatile. If you're trading to try and get ahead and play the market, it moves fast, and you have to be prepared to strike while the iron is hot because one second, a currency can be up, and the next, it can be way down. Cryptocurrency is even more volatile. Take that high forex trading volatility and multiply it by several factors.
This volatility is primarily due to the fundamental difference in centralization that we discussed earlier. Without any centralized regulatory body, treasury, or centralized bank, crypto is prone to wild swings up and down, which regularly occur multiple times on the same day. They're also particularly susceptible to pump and dump schemes. A pump and dump is when someone convinces followers to purchase an asset, so the price rises only to dump (sell) all of their stake in the asset, which then puts significant downward pressure on the asset's price.
Because the crypto market is relatively new to the investing scene, there are also long-term questions and risks. For instance, what will crypto do in the face of a significant inter-country conflict? What will crypto do when the world economy is in a contraction period? What happens when governments eventually find some way to regulate a cryptocurrency? All of these questions pose a serious long-term risk to investors.
Not Having a Centralized Attachment Could be an Issue…
The lack of regulation that we've talked about throughout this piece is a significant reason for cryptocurrency being much more volatile than its forex counterpart. Lack of regulation, lack of oversight, and lack of anything working to keep the currency stable are all part of the problem that plagues investors. This lack of regulation, supervision, and stability creates the perfect storm for bad actors to enter the picture, which is why so many financial planners and financial coaches are reluctant to include it in their clienteles portfolios.
Part of the problem is how creative criminals and scammers can be. Pump and dump schemes are really only the tip of the iceberg when it comes to scams and schemes. Though the forex market is still volatile, it is overseen in a way that prohibits scams and prosecutes those who commit them. However, with cryptocurrency lacking that oversight, what we don't know definitely can hurt us when criminals get creative about getting into our (crypto) wallets.
Cyber Crime is (Continuously) on The Rise!
The rise in cybercrime will likely not stop. We've all officially entered the digital age, including criminals. So it only makes sense that cybercrime, which can be sophisticated and challenging to detect, will not stop. Unfortunately, cybercrime can affect all of us, but that doesn't mean that we must be the low-hanging fruit.
Crypto wallets, which store all of the information needed to access your cryptocurrency, are one of the main targets of cyberattacks. They're the digital criminal's dream. Once you're locked out of your crypto wallet - that's it. Once your cryptocurrency has been taken from your wallet - that's it. Once it's gone, it's gone for good, and there's essentially zero recourse for retrieving it.
However, it doesn't stop there! Having crypto could be putting a target on your back for these criminals. Think about it: if they can obtain a list of usernames or IP addresses that have crypto, why wouldn't they go for an anonymous form of currency that can be instantly swiped, traded for their currency, and liquidated? This is unlike a foreign exchange, which has safeguards and ways to mitigate these risks.
These vulnerabilities make you a prime target for things like blackmail, ransomware, extortion, password stealing, account hijacking, etc. These are outside the regular monetary scope of investing risks and are relatively specific to crypto and crypto-trading.
A CERTIFIED FINANCIAL PLANNER™ Can Help You Decide if Crypto is Right for Your Financial Plan
Are you interested in learning more about the similarities and differences between crypto and FOREX? I LOVE educating people of all walks of life about different financial concepts and how they can make a difference in their lives. So, if you'd like to learn more or discuss investing options for you and your family, please feel free to call or email to schedule an appointment with me. Then, we can create a financial plan that works for you!
Until next time...this is Melissa Making Cents!
Melissa Anne Cox, CERTIFIED FINANCIAL PLANNER™, is a College Planning and Student Loan Advisor and Financial Coach in Dallas, Texas.